Financial Mail - Investors Monthly
STACKING UP
Investing offshore has tax implications that can erode your wealth, so consider the options
Investors commit considerable resources to construct offshore portfolios that yield the best returns but neglect to consider how the tax implications of their investment can erode their wealth.
The most important consideration is the jurisdiction to invest in as countries differ in their tax laws and incentives. A key concern should be tax and death duties, says Galileo Capital’s Warren Ingram.
“Many SA banks now offer convenient ways to open offshore bank accounts. However, holding funds in the UK or US will attract a 40% estate duty on assets held by nonresidents. That means an investor who owns US shares via an American-domiciled broker could lose nearly half their assets following their death.”
Ingram recommends jurisdictions that don’t tax nonresident investors, such as Switzerland, the Channel Islands or Mauritius, or unit trusts domiciled in Ireland or Luxembourg. “Investors would carry tax liabilities in SA but would escape double taxation.”
Investors can also consider an international endowment wrapper to consolidate, hold and manage their offshore assets in a single tax-efficient structure. “The product provider takes care of all tax compliance requirements, relieving clients of any liability, and it’s an effective estate planning tool,” says Wayne Sorour, Old Mutual’s international head of sales and distribution.
Wrappers enable investors to nominate beneficiaries, which negates the need for probate and the related executor fees, and precludes beneficiaries from paying inheritance tax in the US and UK, and estate tax, should the primary investor die. “This simplifies wealth transfer because the investment continues in the beneficiary’s name. It’s important that offshore investors consider these nuances because anyone who invests directly in different jurisdictions would require an executor in each location … They would then report back to the local estate, which is highly inefficient and costly,” Sorour says.
Rand-denominated feeder funds are popular because of the perceived complexity of applying for the tax and SA Reserve Bank clearance required to invest directly offshore, says Paul Hutchinson, sales manager at Investec Asset Management. “However, the tax consequences for discretionary investors favour direct offshore investments, not feeder funds, with the exception of tax-free savings accounts. That’s because any capital gain will be calculated in the applicable foreign dealing currency and multiplied by the rand exchange rate on the date of disinvestment from a nonrand-denominated offshore feeder fund.”
The rand/dollar exchange rate at the time of the initial investment is, therefore, irrelevant in determining any capital gain, as investors are not subject to capital gains tax (CGT) on any rand depreciation.
“But if you invest in a randdenominated feeder fund, any rand depreciation that impacts offshore asset valuations of the invested fund contributes to capital gain. In these instances, investors will be subject to CGT on both the capital growth of the investments in the underlying assets of the fund and the rand depreciation.”
Due to these tax implications, Hutchinson believes a foreign-domiciled international fund offers a better option. “Investors invest directly into a Financial Sector Conduct Authority-approved offshore fund in its dealing currency and, on disinvestment, will receive the proceeds in the same currency. As such, they are only subject to CGT on the applicable foreign currency return at the prevailing exchange rate.”
Tax-efficient offshore investment options also exist for nondiscretionary investors such as retirees. “Individuals over the age of 50 who wish to build up retirement provision outside the country can place their after-tax retirement savings into a 40(ee) self-funded retirement investment plan to benefit from the tax-efficient structure,” says Sovereign Group MD Tim Mertens.
These offshore investments utilise an umbrella retirement annuity (RA) trust scheme, with the master control deed held in a well-regulated offshore jurisdiction like Guernsey.
“These trusts enable retirees to contribute to a nonranddenominated fund managed by a trustee investment committee, rather than holding direct offshore investments in their name. And because it's a discretionary trust, members do not donate or loan funds to the trust to externalise their wealth. As such, there are no tax implications.”
The other major tax benefit is that under the jurisdiction’s tax provisions, international Guernsey-based RA trust schemes can make payments to nonresidents without attracting local tax.
But there are provisos. Investors cannot access invested funds before the age of 50 and must take some drawdowns before 75. While retirees can collapse the trust to repatriate their funds or use the capital to sustain their retirement, any draw-down on the growth of the invested sum will attract CGT.